I have been a CPA for over 30 years focusing on taxation. I have extensive experience with partnerships, real estate and high net worth individuals.
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"I have a total irreverence for anything connected with society except that which makes the roads safer, the beer stronger, the food cheaper and the old men and old women warmer in the winter and happier in the summer." - Brendan Behan
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Should Student Loans be Dischargeable in Bankruptcy ?

One of the most cited grievances to come out of Occupy Wall Street is the crushing burden of student loans. I have had a couple of guest posts on the topic including one from Tim Smith who blogs on the Echo Boom. Here, now, is a piece by Alan Collinge, who has been devoting himself to the issue.

What Congress can do to Solve the Student Loan Crisis At long last, the nation is beginning to acknowledge the very large problem that student debt has become. The national dialogue has been noisy and confused to this point, however, and the few legislative attempts to address the issue, while pleasant sounding, will do little to ease the debt burdens of the vast majority of borrowers, and do nothing to address escalating college prices and the associated debt loads being imposed upon the citizenry. Ultimately, this distracted dialogue and feeble legislation serve no one well, and the protests we are seeing now across the country echo this point. In order to understand and solve the student loan crisis we now face, it is critical to understand the unique fiscal dynamics that govern the student lending system, and the institutional and political behaviors that results. Forget about the for-profit college scandal for a moment. Put the public vs. private student loan debate on hold. The following must be addressed if these debates, or others, are to be productive.

First, it must be acknowledged that the lending system supporting our higher education system is structurally predatory. In the absence of fundamental, free-market consumer protections like bankruptcy, statutes of limitations, refinancing rights, and others), and in the presence of unprecedented collection powers that would make “mobsters envious” (Elizabeth Warren’s words), we have a student loan system where the big lenders make significantly more money on defaulted loans than healthy loans. What is worse: The guarantors (the entities that are supposed to police the lenders) make, on average, 60% of their revenues from penalties and fees attached to defaulted loans. What is almost unbelievable: Even the Department of Education (According to the President’s Budget), gets back $1.22 for every dollar they pay out in default claims for Federal Family Education Loan Program (FFELP) loans. Even subtracting generous collection and other costs from this profit still leave them clearly in the black. Imagine if it turned out that JP Morgan Chase, Fannie Mae, and even The Housing Department were making more money on defaulted sub-prime home mortgages than those which remained in good stead. This is the reality for student loans- a reality that demands very careful consideration.

A few common-sense questions are compelled here: Would you want to take a loan from someone who wanted you to fail in your endeavor? Doesn’t this put the lending system in a position of bad faith? Is this not a defining characteristic of a predatory lending system? Adam Smith, Milton Friedman, and every other western economist would answer yes on all counts (Ironically, Republican members of Congress were, by all accounts, more responsible for the legislation that caused this than members from the other party, but that is a topic for another discussion).

These financial motivations explain a wide and deep array of systemic defects, conflicts, and corruptions in the system that involve the lenders, schools, and most importantly, the Department of Education. One example, Sallie Mae and others have been found to have defaulted student loans en masse- without even attempting to contact the borrowers! Another example: all colleges routinely mislead students prior to taking out loans about their true default rates- they instead doggedly promote their reasonable sounding “cohort” default rates, and the Department of Education never does anything to correct this false impression (The true default rate across all schools is roughly 1 in 3, and has been for years, whereas the cohort default rate typically lies between 4%-8%). Similarly, students usually aren’t made aware that all the consumer protections mentioned above- and more- don’t exist for student loans. These are only a few of the hundreds of significant examples of false information, omissions, and outright deceptive behaviors that one could point to in this discussion. The readers can imagine the multitude of other dishonorable activities that might result from the anti-borrower financial motivations that have taken hold of this lending system, and more than likely they will find these to be happening, in fact, on the ground.

Those who claim that the new, improved “Direct Lending” system is cured of these predatory underpinnings are wrong. Defaulted loans still carry all the same penalties and fees as before, and Sallie Mae and the other big player are still both servicing healthy loans, and collecting on defaulted loans in the same conflicted manner as before. The collection frenzy around massively inflated, defaulted loans may even be exacerbated under the new system, where interest income is no longer a possibility for these contractors. In any event, the new system clearly doesn’t curb the predatory nature of the debt instrument.

The most troubling outcome resulting from this lending environment, however, is the massive tuition inflation that the schools are imposing at will upon the students. Congress enables this, year after year, by repeatedly increasing the lending limits, in the absence of protest from the Department of Education, which has known about the astonishingly high default rates for years, but has promoted this pollyannish view of higher education, instead of telling the hard truth. And of course this affects all students, not just those who borrow. Wealthy and moderately wealthy families who must pay out of pocket for kids to go to college feel this, and feel it more sharply, arguably, than those who borrow.

Some perspective is needed here. If there is an infectious disease outbreak, the CDC is pretty snappy about warning the public. Similarly for the USGS and earthquakes, NOAA and tsunamis, etc. Should we not expect the same type of response from the Education Department in the face of exponentially increasing student loan debt and astonishingly high default rates? When we were looking at a Trillion dollars in national student loan indebtedness, and the default rate was north of 1 in 4, why wasn’t the Department of Education sounding the alarm? These questions have yet to be posed to those in charge at the Department, but need to be. By Congress. Department staff who should have warned congress and the public but didn’t should be held accountable. This isn’t a question of good government. Rather it would seem that is a question about minimally adequate government.

So the question now is how to “fix what is broken”, to borrow a phrase from President Obama, Secretary Geithner, and others following the most recent State of the Union Address. Gainful employment rules, dickering around with the Pell Grant, and similar activities do nothing here. Neither do the various repayment programs that are being marketed by the higher ed crowd as viable substitutes for the consumer protections that were stripped from the system. Some policy “thought leaders”, in fact, are pointing to these untested, unproven programs as a basis for dramatically increasing the federal loan limits! This is not the direction we want to go. We cannot afford it, and to claim otherwise is hugely irresponsible.

Don’t be distracted by the sophisticated, confusing rhetoric being forced into this debate by those who would maintain the status quo no matter what the cost, or those who would end public support for higher education altogether. Neither extreme has the interests of the citizens at heart. Remember only that reall, this is not a difficult problem. Congress created it by removing fundamental, free-market consumer protections from student loans. Congress can and must fix it by essentially undoing what they did. Quite simply, it begins by returning, at a minimum, the bankruptcy protections that were removed without rational basis (when bankruptcy was the same for student loans as all other loans, far less than 1% of federal loans were discharged this way). With this fundamental, free market mechanism returned, the Department of Education will have a vested interest in compelling the schools to provide a high quality product at a low cost, and at reasonable debt levels.

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justthefacts … you are what keeps our company thriving. People like you are our cheerleaders. It’s the students fault … keep going … state your arguments, in our support. The companies are not to blame, it’s the students fault. Yes … it’s the student borrowers fault.

No one foreces people to buy cars and houses that they can’t afford or run up credit card debt, but they do. Sorry, but the rest of us aren’t as perfect in our decision making as you are justthefacts. Maybe some day we will wake up and have reached the level of perfection in life that you claim to have, but I doubt it.

Keep working at ddgresham, you’ll get there… Well that’s of course if you want to work at all?.. Or if you are among the privileged Americans who would rather take unemployment instead of a job (because it pays more) Or wont take a job under a certain salary level because they went to college…But if you can’t think that far into the future to realize there maybe some benefits to working hard – I understand.

I’ve been working for 26 years and support myself and my wife with my efforts. I did 4 years active duty infantry and went to combat to have enough money to go to college. Stop ignoring the point by taking jabs at me. People aren’t perfect and they make mistakes. When they do, they need a way to “restructure” (to quote what corporations do).

Low-income students should not pay 3 times the price for the same college education wealthy students receive. This happens when low-income students finish paying-off loans. The interest rates are higher than 8%, which equates to a mortgage on a small house.

Yes, low-income students understand the terms of student loan contracts. However, private lenders have few regulations that prevent them from charging high interest rates after one late payment.

These lenders are similar to payday lenders, and should be more closely regulated. Students in such a predicament should not be penalized for obtaining an education, yet my former company Sallie Mae, worked to place students into default because the company would receive almost 100% of the defaulted loan amount from the federal government.

The government was wise to eliminate FFELP because it was a huge profit portal — HUGE.

I digressed —

Alas, it is understand that wealthy people have little empathy for low-income individuals, however, if you had no financial means to pay for a college education, what would you do? Receive a low GPA, while working 4 jobs without a loan, or obtain a higher GPA while working 2 jobs and financing tuition, etc via student loans.

Yup – it seems the wealthy tend to forget about the GPA factor, and the stress of needing to work a few jobs while in college.

Long gone are the days of pre- 1980s, when a student could get an education at an IVY league institution for a total 4-year cost of $60,000.

$60,000 is now = to one year of college at an Ivy League school. And, state schools? The annual cost including food, shelter, books, tuition, health fees, etc., is $25,000. Check online for estimated cost of attendance — poof. There it is the $25,000 annual figure.

Welcome to college inflation, that exploded over the past 25 years, and put most students in massive debt.

I think forgiveness goes too far, however, I do support removing all previous fines and penalties and allowing people to consolodate and make payments at little or no interest. Also, with all other consumer debt standard consumer protecions exist. If my wife becomes disabled and I can’t afford to make my mortgage payment am I supposed to continue to try even though it wouldn’t allow me to eat, pay for utilities etc? No, I would file bankruptcy and move on with my life. Those of you under the school of “pay no matter what” have little understanding of why bankruptcy protections are vital to a free market economy. We eliminated debtors prison a long time ago…get out of the dark ages.

People are hung up on the idea of debt forgiveness as a bailout (particularly those who paid off their loans), but if you study this you’ll understand that our tax dollars dollars are being used to pay lenders who get $ from the govt and from the lenders and the govt guarantees the loans so there is no risk to the lenders. I paid off my college loans before going to graduate school, where I thought I was making myself more marketable, but my family was hit by unemployment + there is no recourse. I borrowed $45k, paid off $14k, but now owe $65k nearly ten years later because the interest capitalizes if you can’t pay it + the interest rate is locked at 8.5%, nothing I can do. We didn’t borrow $ on credit cards to buy crap, we’re trying to feed our kids and pay taxes + it doesn’t feel right that student loans are the one loan that can multiply indefinitely and there’s absolutely nothing that can be done. We tried to educate ourselves, my husband paid off all his loans, we have no credit cards and yet we’re being chocked by this system that makes it impossible to create a reasonable payment plan. Forgiveness is complicated, but applying the same consumer protections that every other borrower has in America is not.

To everyone in the “Well you made this decision, live with it” crowd: Consider this, I took out PRIVATE student loans (Government not involved… just like going and getting any other loan or mortgage) prior to the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. I accepted vastly higher interest rates than public loans, because I could declare bankruptcy if things really got bad. It was a private, bargained for exchange where all parties knew their risks. Then with BAPCPA, suddenly the consumper protections and ability to discharge in bankruptcy was removed, retroactively, and now I am paying absurdly high rates for nothing. How would all of you “pulled myself up by my boot straps without college” folks feel if Congress stepped in to completely amend contracts with your customers to be one-sided against you?

I am politically the opposite as the author. I am a Republican and ardent capitalist. This is one more way that the government has intervened in a private market, and thoroughly messed things up. With infinate student loans, rather than make it affordable, college now costs the same as buying a house. Just one generation ago, you could work your way through college. Now you can’t even do that at public colleges. Congress must return consumer protections and allow bankruptcy for at least private student loans.